Don’t let sneaky clauses in the franchise agreement trip you up!

By Sarah Stowe | 01 Feb 2018 View comments

Inside Franchise Business: avoid slip-ups by getting good advice on the franchise agreementRemember that classic song, ‘I never promised you a rose garden’, written by Joe South, recorded by country music singer Lynn Anderson, and first released by Billy Joe Royal in 1967? That’s what most franchisors would sing to their franchisees.

Well, perhaps the franchisor isn't guaranteeing you a rosy future, but the route to franchise success can be a thorny path if crucial elements get missed in the franchise agreement.

It’s important to remember that franchise agreements are written and clearly weighted in favour of the franchisor. That is understandable as the franchisor is granting rights, has developed and invested in establishing and, hopefully, testing the system and wants to protect those rights.

And as a franchise buyer, you need to protect your rights.

Apart from selecting the right franchise system and considering things such as whether the franchise meets your objectives for work-life balance, and is a viable business opportunity, there are some key issues in your franchise agreement that should not be overlooked.

Receiving advice from a franchise law specialist will help you limit your risk and get a better understanding of the key issues, so you can make an informed decision.

The upfront costs are an obvious starting point, but it’s important to focus not only on the entry costs and obligations but on the rights and obligations on exit, sale or termination of the franchise.

Many franchisees assume the franchise agreement offered is not negotiable. That is sometimes the case but we will often be able to negotiate some concessions where they are seen as reasonable requests, and depending on whether we are dealing with a long established or new franchisor.

It may also be difficult but the right decision sometimes is to walk away from a franchise opportunity, after getting specialist advice. Once you commit there is no easy way out without crystallising a loss.

So here are seven crucial things to looks for and consider in your franchise agreement.

1.  Preconditions, commencement, term and options

Be careful to check your obligations as a franchisee before you start the franchise. We have seen some franchisors require the franchisee pay the franchise fee and a substantial part of the fit out before a site or location is found and any permits are in place. The franchisor may then be using your funds to build other presold franchises.

How long is the term of your agreement and how does that sit with your lease or license to occupy? Often the lease term and franchise term do not coincide which is not such an issue but you should be aware of it.

What is the renewal fee for the further franchise term? Is it the full franchise fee?

2. Training

Providing training is a standard in franchising. You'll need to know more about what's provided.

  • What are the training costs?
  • How many of the operators and initial franchisees are trained?
  • Is the training adequate and where is the training held?
  • Who are the trainers? Are they qualified?
  • Is it one-on-one, offsite or in the premises and under the pressure of having to simultaneously run the business?

3. What rights are granted?

Are you granted exclusive or non-exclusive rights to sell the services or goods in an area or territory?

This is an element of the agreement that is often overlooked and misunderstood by franchisees. The clauses can be quite clever in franchise agreements, and reserve rights to the franchisor to sell online in the franchisee’s territory or grant rights to other resellers that may compete.

Understand the franchisor’s online policy and if the franchisor will share any revenue from online sales in your territory.

This is a hot issue at the moment with many systems converting to online sales and it is a cause for concern that some franchisors are in fact competing for business with their franchisees online with no benefit or allowance being given to franchisees for lost sales.

4.Selling or assignment right

Can you assign your rights and sell the franchise business to a third-party?

If so at what cost? Some agreements provide a fixed fee, others ask for a percentage of the sale price which in my view is unreasonable and should be avoided.

Does the franchisor have a first right of refusal? Is it at arm’s length market value or only at the franchisor’s discretion?

5. Non-compete and restraint clauses

It's important to know what restrictions will be placed on you at the end of your franchise term.

Does the agreement comply with the Franchise Code 2015 changes which provide asignificant benefit to franchisees?

There are many restraints that are seen as going beyond what is fair and reasonable and may be unenforceable in a court but franchisees cannot really take on a franchisor with deep pockets to test the restraints. 

Far better that these are looked at carefully by a franchise lawyer and pulled back at the outset.

6. End of term provisions

This is an often overlooked section but these provisions can have serious consequences for the franchisee, along with the non-compete clauses. For example:

  • Who owns the customer lists at the end of the term? 
  • What are the exit costs to hand back confidential information to the franchisor and debrand the business?

7. Minimum performance criteria

The franchisor may set an opening schedule and minimum performance criteria.

  • Are these reasonable and achievable?
  • What are they based on?
  • Do they take into account the first 12 months spent establishing the business?
  • What are the consequences for failing to achieve them?

_Minimum performance criteria are not a target and a failure to achieve them usually carries consequences such as more training further cost and possible termination rights to the franchisor.

So in summary, do your due diligence, take your time read your agreement and get specialist advice so you can make an informed decision before you commit.